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“As a result, the market started to do much of the stabilizing for us, selling sterling when it approached DM3 and buying sterling whenever it dipped below it.”

The above quote is from The View From No. 11, Nigel Lawson’s autobiographical account of his tenure under Margaret Thatcher as England’s Chancellor of the Exchequer. Lawson’s words deserve special attention given ongoing confusion among monetary types about currency-price stability, or lack thereof.

Particularly among those who believe (wisely) that the dollar would be a much more credible currency if it had a stable definition, the view is that the Fed could and should use open market operations to maintain the dollar’s price stability in terms of a gold ounce. The sentiment is sound, but it’s rooted in confusion.

Such a belief ignores that the dollar’s exchange value has never been part of the Fed’s portfolio as is. Second, in ascribing a role to the central bank as “croupier” of sorts, fixed-exchange rate proponents confuse what fosters currency price stability in the first place. It’s not a “money supply” concept as so many believe. Lawson’s recollections help vivify this truth.

Although England’s pound was not fixed to the German Deutschmark (DM) in 1987, traders sensed that Lawson desired a pound/DM exchange of £3. Up until the 1987 G7 meetings at the Louvre, the pound had been weak versus the Deutschmark, but quickly strengthened once Lawson’s desire to shadow the German currency became apparent. Currency stability is about stated intent, and credibility of that intent, not central bankers vainly matching “supply and demand” for a currency.

Except that we’re getting ahead of ourselves while at the same time misunderstanding the Fed’s portfolio. The Fed was created in 1913 not to maintain the value of the dollar, but instead as a “lender of last resort” to solvent banks. That’s it.

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Indeed, the dollar’s first devaluation (from 1/20th of a gold ounce to 1/33rd) in the Fed era happened in 1933. It was a decision of Franklin Delano Roosevelt and his Treasury department. The Fed had nothing to do with it, and more importantly was powerless to stop FDR. So incensed was Fed Chairman Eugene Meyer over FDR’s decision that he resigned.

Fast forward to 1944, the centralization of the dollar at Bretton Woods as the world’s currency (whereby the greenback was pegged at 1/35th of a gold, and the world’s currencies were pegged to a reasonably stable dollar) was a Treasury action that the Fed had nothing to do with. The dollar’s exchange value has once again never been a Fed function.

In 1971, President Richard Nixon and his Treasury department chose to sever the dollar’s link to gold at 1/35th of an ounce. Arthur Burns was Fed Chairman at the time and his diaries make plain how very much he thought Nixon was erring mightily. No matter, however. The dollar’s exchange rate is once again not a part of the Fed’s portfolio.

Which brings us to 1985. The year is notable simply because in ’85 U.S. Treasury Secretary James Baker gathered finance ministers at New York’s Plaza Hotel to effect “some further orderly appreciation of the main non-dollar currencies against the dollar.” Individuals can agree or disagree as to the whether a devalued dollar was a good thing, but it’s worth bringing up simply because central banks didn’t gather in New York to bring about “orderly” currency appreciation. Intent was conveyed, and markets complied. It was a Treasury function. Treasury is the dollar’s mouthpiece.

Interesting about Plaza is that many of the well-intentioned who wisely seek a stable dollar are big-time Reagan proponents. Despite this, they persist with the mythical notion of the Fed as “croupier.” It’s silly, but that’s what they believe.

To all this, some will say the Fed is tasked with maintaining low “inflation,” and by extension it’s tasked with maintaining the dollar’s price stability. It’s a fair point, except that economists near unanimously don’t think inflation is caused by a decline in the value of the currency. They think economic growth causes inflation, at which point they naively call for the Fed to centrally plan “Goldilocks” economies. In short, a false definition of inflation has some thinking the Fed controls the dollar’s exchange rate.

Others base their thinking on supply and demand. Since the Fed can “inject” so-called “money supply” into banks, it allegedly controls the dollar’s value. Nice try. Actually, the Fed buys interest bearing assets from banks that all manner of financial institutions buy. “Money supply” per Arthur Laffer is production determined. Where there’s production, there’s money. The Fed can’t alter this truth. If it could, money would be abundant in the U.S.’s poorest cities.

After which, people just need to think reasonably. The price of market goods isn’t all about supply and demand. If it were, companies with falling share prices would simply limit share float. To no avail. The value of a company share is based on a projection of the company’s future value, not supply vs. demand. Money is no different. Money is a projection. Will monetary stewards credibly maintain the price-rule for their monetary concept, or won’t they?

To presume as some do that the Fed sets the value of the dollar through open market operations is to presume that up until 1971 it played croupier, then stopped. What a laugh.

More realistically, the U.S.’s commitment to dollar-price stability met its official end in 1971. Stated intent changed. The dollar as 1/35th of a gold ounce would be no more. To focus on “money supply” then was to miss the point. Today is no different.

Currency stability isn’t the Fed as dollar dealer, rather it’s a commitment. Without it, the dollar floats in value. With it, the dollar is stable. With monetary concepts, intent is of utmost importance. This intent has nothing to do with the Federal Reserve.